* Bunds track Treasuries up as Republican proposal stumbles
* Last minute U.S. compromise still expected
* Safe-haven debt rally seen capped with year end looming
* Italian budget vote, Monti steer on elections eyed
By Emelia Sithole-Matarise
LONDON, Dec 21 (Reuters) - - German Bund futures pushed higher on Friday as a dramatic twist in U.S. budget talks raised the chances that fiscal tightening will take effect next year and tip the economy into recession.
Republicans in the U.S. House of Representatives surprisingly failed to muster enough support to pass a proposal to avert the series of tax hikes and spending cuts that are due to come into effect in about two weeks.
President Barack Obama had vowed to veto the proposal and the latest setback kicked global stocks down as investors scrambled into lower risk and highly liquid U.S. Treasuries and German Bunds.
"It (U.S. talks) doesn't seem to be going particularly well so I can't see why core markets should sell off at this point in time. But there's not much activity with Europe only open for another two days of trading for the year," a trader said.
Bund futures were last 30 ticks up at 144.62 with cash 10-year yields 2 basis points down at 1.39 percent .
German yields were, however, unlikely to end the year significantly lower from present levels with traders and strategists still expecting a last minute compromise in the U.S. negotiations.
"At the end of the day this could be good news as market reaction is quite negative on the latest failure to make progress. This will probably put pressure on politicians to achieve an agreement, even if it's not a complete agreement," Patrick Jacq, a strategist at BNP Paribas, said.
"So the rally in the govvies sector could be capped shortly. For the 10-year Bund, 1.35 percent is probably the level around which it could end the year."
Traders were also watching events in Italy where legislators are expected to vote on the country's 2013 budget that will pave the way to elections in February.
Outgoing technocrat Prime Minister Mario Monti is expected to announce at the weekend that he will participate in some way, either by endorsing parties that want him to return as premier or that he will run as a candidate.
Markets are keen for Monti to play a key role in the next government to ensure the country will stay the course on budget reforms that have eased investors' fears it could be pulled back into the centre of the euro zone debt crisis.
Italian 10-year yields were last 2 basis points up at 4.44 percent with Commerzbank strategists saying the country's last debt auction of the year on Dec. 28 could prompt some investors to book profits after the market's recent sharp rally. (Editing by Chris Pizzey, London MPG Desk, +44 (0)207 542-4441)